Good morning. We're gonna get started.
Mm-hmm.
I'm Tim Arcuri. I'm the semiconductor analyst here at UBS. Very pleased to have ADI with us. With ADI we have Rich Puccio, who's the CFO, and we have Mike Lucarelli, who is the IR. Thank you for coming.
Thanks for having us.
So maybe let me start. Some of your peers still don't sound very good about business. And yet you sound pretty confident that things have stabilized, and you had your earnings call last week, and you sounded relatively okay. So what kinda gives you the confidence that your business is stable and is largely seasonal, really?
I take it back a little bit. When we talked about our earnings coming out of Q3, you know, we started talking about our bookings trends. We've had a pretty good run of continued growth in bookings, and then we had, you know, a drop-off in auto bookings, you know, in Q3, which took us down overall from a bookings perspective. I think we started to see at the end of the quarter a little bit of a pickup in the auto, and that actually continued into Q4 and grew throughout the quarter, you know. Getting back to our growth in auto for us was really important given that was an offset. We feel good about the growth we've seen in bookings across the business.
You know, the other thing that, you know, gives us a lot of confidence in where we are. It certainly was, you know, we've said we'd grow sequentially. We've grown sequentially twice. You know, we've talked about this before. We were very early reacting to the inventory situation, both at our end customers and our channel. So we've got inventory down to a pretty low level. We're seeing good bookings activity. You know, our near-term outlook has us back, you know, back in a really good place from a demand perspective as we're getting good signal because we've got normalized lead times. You know, and if you, you know, you break down some of the strength, particularly in China, right? You think about what happened in China, right? You know, China was the first one to go in, you know, to the decline.
You know, I think we had seven straight quarters of decline in our China business. You know, now that has come back and grown two straight quarters in double digits, right? And if you think about, you know, that piece in particular, you know, the Auto business in China has been strong. You know, as you think about what's happening in cars, more and more of the features where we have a lot of content and ADAS-related, you know, those are going down into the next tiers of automobiles. So that's creating additional content growth, right? We talked about we had gained back some share in China, and so that's been a positive driver for us.
You know, when you think about it, we've got a really good leading position, you know, in the optical space, providing into the suppliers in China who supply the U.S. data center companies. So we feel good about that. And, you know, we've got inventory in the channel down just a little bit below our target of seven weeks. So we feel like we're well-positioned for the rebound here. You know, we're at some level, we're pretty comfortable right now with the lower levels in the channel from an inventory perspective, just given we've still got obviously, although we've made a ton of improvement, we've still got a pretty significant amount of inventory on our balance sheet.
You know, we've, you know, we've got the capacity, so we can handle some of this increased upside if we are fortunate to see the macros turn. You know, a little bit of the thing that's keeping us from growing better is, you know, we're obviously a big industrial business. The broad part of the industrial just isn't coming back, the end demand.
Right. Can you talk about China EV and how sustainable that is? There's some investor concerns that some of this might be pulled forward given some tariff fears. Can you just talk about sort of if you peel back the onion, does that seem plausible that they're pulling in because of tariff fears?
I guess it's plausible, but we haven't seen it, right? Like I said, we saw significant declines and now rapid acceleration. You know, look, a big part of our business is tied to the EVs and, you know, all of the incremental growth in EVs that's happening in China, right? Now, we've got this weird dynamic that's maybe tempering the growth a little bit, which is plug-in hybrids are growing faster than full EVs.
Mm-hmm.
We get more content out of a full EV versus a plug-in. But we've been, you know, very fortunate to grow our content pretty significantly. If you go back to 2019 to now, we've significantly grown our content in the vehicles, and we have, you know, regained back share there. Again, we're, as I said, pretty low from an inventory perspective, so I feel like we're well-positioned. Could something geopolitical happen? Certainly. But what we're seeing right now is real demand because we don't have a ton of excess out there.
I think I'll say one thing, 'cause everyone focused right now on automotive is very strong in China, right? And we did talk about share gains, like Rich pointed out, on the BMS side ahead of that. The demand we had share gains on top of stronger demand than we thought, so that's driving the automotive business. The flip side in China, the industrial market for us is still very weak in China, and the channel inventory there is also very low. So I think what you're gonna see in China is gonna broaden out just from an automotive growth driver for China to also the industrial market, which is a big part. It's over 40% of our China business is industrial, and that is still weak.
Just saying, I think that, you know, I have a bit of an expectation that this, you know, this stimulus and activity the government's taking is gonna drive some industrial growth there.
Got it. Can we just talk about China and just the sort of melting ice cube concern that everyone has, you know, not just for ADI but for, you know, everyone in your sector just is concerned that China's gonna indigenize all of this stuff and just as your China business is just a melting ice cube. Can you talk about how you see yourself positioned in China? I know you did have the teardown that actually we did, and, you know, you did lose the share on the domestic car. That was a high-profile but probably not representative of, you know, what your overall position is in China. So can you talk about that?
Sure. So, you know, there's a lot of conversation about the investments China's making, you know, to indigenize. One of the things that makes that a particular challenge competing against us is, one, the industrial isn't highly fragmented, right? Tons of SKUs, tons of customers. And analog is very hard, right? So you can't, you're not gonna be able to come in. We even learned this, right? Displacing folks in the analog space is hard. Our products, you know, in particular in the industrial, which is roughly half of our China business, average product life 17 years, you know, we command a innovation premium, so we have higher ASPs. So I think that we will continue. Look, when you need highest performance, you're gonna pick analog regardless of territory.
That applies in China. Even where we had lost some share previously in China, we gained it back because once they realized they needed our performance levels for parts of the cars, you know, the higher-end cars, you need higher performance, you need our solutions, so I feel very good about what, you know, where we're positioned. Am I always gonna be, as a CFO, hyper-focused on that, you know, their continued drive to do that? Yes, but I think in the near term, we continue to win, and we continue to see our pipeline grow. We've got double-digit growth in our pipelines, which leads me to believe, you know, and that's a good proxy for our, you know, multi-year outlook on revenue, and I still continue to feel good about that.
Great. Nobody really asked me on the earnings call about distribution. Is there anything to call out in the disti channel? Most of the distis are still trying to reduce inventory. I think you took down channel by maybe $30 million. What are you seeing in terms of inventory inside of distribution?
So we saw, you know, we reacted pretty quickly when we started to see the downturn and went to address the inventory situation. So we've been at that pretty hard. You know, and if you think about sort of full year fiscal 2024, we took about $300 million out of the channel, right? So we feel like we're in a really good place from an inventory perspective in the channel in that regard. You know, I don't expect that we'll start shipping, you know, a ton into the channel more than we're seeing in the end demand until we see a significant improvement in the macros in the background. But I'd like to and I just heard we actually got a positive PMI post.
But I'd like to see a little bit of a trend there before we start, you know, doing anything different than what we've been doing in the channel. You know, I wanna see the pickup accelerate so we don't exacerbate any potential lingering inventory issues out there. But, you know, talking to our channel partners, I think we've done a really good job managing the inventory through the cycle, and I think they would tell you the same.
Great. Can you talk about just the geopolitical risk around tariffs? I'm asking all the companies this question, so not just ADI. You've qualified 70% of your products to run internal or external, and I think 95% of the products made outside of China and Taiwan. But what if the tariffs do come about? Do you have enough capacity to offset what touches China? I know you're gearing up to, you know, TSMC fabs in Japan. So, how do you think about the relief valves you might have?
Sure. So I'm gonna do two, two clarifications, two important ones. First is we set a goal to get to about 70% of our products qualified. We call—you'll hear us use this term swing capacity, meaning we can manufacture internal or at one of our third parties. We expect we will get to that 70% by the end of this year. We're not there yet. And on the 95%, the important word you left out is we will be able to manufacture 95% of our product outside of the Taiwan, China. Now, getting fully to the 95% requires us to get online with the capacity we signed up with TSMC and the Japan fab, but to be clear, we don't wanna not be manufacturing in those places.
We will go there you know, this is for the Black Swan event, 'cause obviously they're almost by definition, you move away from semi-manufacturing in Taiwan, every you know, every step farther you go back towards the United States, it gets more expensive. So they've got a great ecosystem. They're a great manufacturer. So we will be able to and that's what our customers want, right? We went through a pretty significant resiliency plan. You know, and we've talked about this before, right? We had, you know, significant amounts of CapEx spend over the last couple of years as we built the resiliency plan, doubled our internal capacity, did all those things. But today, say we're 50/50 internal, external, you know, we expect we'll continue to stay on something close.
Unless we have to, we don't plan to move out of the, you know, the Taiwan-based manufacturing.
Great. One of the bigger idiosyncratic pieces of your story is the potential revenue synergies from the Maxim deal.
Yep.
Of which you've realized hardly any so far. You've been winning designs that will start to revenue over the next few years. So you have visibility on that, but you haven't really reaped those benefits yet. So can you kinda talk about that? Is this the $1 billion by 2027, is that already won, and it just is a matter of time until this stuff starts to ship?
So I'll go back to the start. So we have had very mild amounts in the 20s of millions of dollars of synergy revenue synergies in the current period. We expect that to significantly accelerate into fiscal 2025, but again, still more in the hundreds of millions, not close to the billion. We still are on track to get to the billion 'cause you know, what we've seen is, you know, when we apply, you know, have applied our field application engineers and field resources, particularly as we look at things like GMSL, we continue to see a ton of growth. As you said, we've got a very strong design pipeline that's going to start producing.
You know, we've been benefiting, obviously, from the power portfolio, you know, as we look at the gains we're making in data centers, in other spots. So we are actually where we're right about where we thought we'd be at this point and still feel like we're on track to get to that synergy number, billion dollars in 2027.
When you think about content growth in autos, how much of the content growth is electrification-related, such as, you know, BMS and things like that? And how much is in areas like infotainment and ADAS that are sort of more agnostic to powertrain?
So if you think about the, you know, how it's picked up for us over, you know, I go back to 2019 timeframe and you think about our content across those pieces, you know, it was, say, I don't know, $20-$30 per vehicle. You know, you look at that content today, you know, it's close to $100 a vehicle. And then if you think about if you continue to move to the right, you know, if we get a BMS solution in, you know, that adds another 40-ish dollars to the solution. And if they go all the way to a wireless BMS, which we are starting to see more and more traction in the wireless BMS, that's another $100 piece of it. That's the way I'd frame it.
Total, Mike, what is? Oh, sorry.
Yeah. We, to Rich's point, the way we look at the models and kinda say, "What's the content per car?" We talk about nodes per vehicle. A node for us is defined as a camera, a radar, a microphone, or a speaker or a display. Those nodes in every car are increasing a lot. To Rich's point, you look at 2019 today, that content increase of just nodes is increasing a lot. What does that mean? It means you need more GMSL connectivity, you need more A2B, you need more functionally safe power. That's happening across all vehicle types.
Mm-hmm.
Whether ICE, EV, or hybrid. That's what Rich is talking about. As you think about $20-$30 going to $70-$100, it doesn't matter what vehicle type it is. You get like a 5x content increase because of more nodes per car. Then you layer on top of that, if that car has a powertrain that's electric, you add another $40, and if you use wireless BMS, $100. So there's another content expansion on top of just nodes as that car moves to being electric a s well.
Got it. I wanted to ask, there's a question from the field that is a question, and this is sort of the last China question that I'll ask, but this is a question like half the time you talk about analog, it's the, you know, debate is around China. And with them building so much at the, you know, lagging edge, how do you, you know, question really is, how do you ward off that threat? Is it that you say, "Okay, you know what? We're gonna have to price just more competitively in China," and you think you won't lose share, but that pricing will have to come down, and therefore you'll have to find ways to take out costs so you can maintain margins? How do you sort of think about that?
So certainly the most aggressive price pressure is, in my view, in China Auto, right? That is what we're seeing, and we look at our pricing across our portfolio. We've talked about this, you know, pricing has been pretty stable in 2024. We expect it in 2025. That's a combination of puts and takes, right? There will be some price-down activity in autos. There'll be some price-down just for volumes across our business. But at the same time, we'll also have some offsetting price increases in some of the legacy stuff. But I think, moving away from the pricing, where we will continue to compete in that space is if you need, you know, domain expertise and application-specific solutions, high performance, then you're gonna come to us, right?
We're not chasing the high volume, right? Which if I'm building factories in China, I'm going after the volume, less complex stuff. Do I worry about it, like I said, over the longer term? Absolutely. But today, I think our innovation we have, the innovation premium we get, the other thing is yeah even at those nodes, it's a very diverse product portfolio and customer set, which makes it hard to come in as a new competitor against, you know, particularly, right, Analog's hard. We have 60 years of experience designing in analog.
You talk about 300 mm. You've taken a little different manufacturing approach than some of your peers have, we'll say. I mean, I think it would probably take quite a long time to fill up a 300 mm fab because so much of what you do is at nodes greater than 90, you know. So how do you think about your manufacturing strategy and how it could evolve going forward?
See, so first, you're correct, right? Building a 300 mm fab would not make sense for us, right? The majority of our stuff is in the 100-180 nm space, so it would be very hard for us to fill, right? The other thing is, you know, a lot of our stuff is, you know, small, smaller volume production, which would make that very difficult. That said, you know, we use our foundry partners, right? Because we are building on 12-inch wafers. We're building more than we historically built on 12-inch wafers, and I expect that what we build on those will continue to grow moderately. But the economics just wouldn't work for us. And look, we have historically run a very CapEx-light model, right?
I think we've talked about, you know, last couple of years, we invested heavily from a resiliency and a capacity perspective, you know, but we're gonna, you know, get back into running inside of our 4%-6% of revenue from a CapEx perspective. So, you know, that is not building more fabs, you know, for our model. And that works, and we have great partnerships with our outside parties, and our ability to swing in and out has been fundamental to how we've performed, right? So in the time of, you know, hyperexponential growth and we need extra capacity, we can go outside. In times like we've just been through with the big drops, you know, we're able to swing some of that capacity back in, which has helped moderate the impact on our utilizations.
I mean, we're still. We've talked about this on the earnings calls. We're coming off of a trough, from a utilization perspective in our second quarter. Had we not had the ability to swing capacity back in using our factories, the utilization challenges would've been even worse. So that swing is super important, and we really like the relationship we have to leverage others' capital.
Great. Just on that point, I wanted to ask about incremental gross margin off the bottom.
Sure.
I would think, utilization is the biggest driver. However, industrial's a little higher gross margin than auto, so maybe there's a little bit leverage to industrial from that point of view. How do you think about incremental gross margin, or will you just say, "Look, don't worry about incrementals. Just think about 70% at $2.7 billion a quarter"?
It's 70% at $ 2.7 billion is a good thing to have in your mind, but that also would assume we get some growth in the industrial side. You're absolutely right. Industrial is a much higher business margin business for us, and a good portion of our downward pressure, you know, was utilization, also mixed. If you look back a year ago and look at fiscal 2023, industrial was well over 50% of our business, you know, significantly lower, 8 points lower as a percent of our business in 2024. That is a margin headwind. Now, if we see industrial start to come back and see that rebalance, that will give us more acceleration on the gross margin.
But, you know, getting back to the high, the previous high kind of margins, really, we need the macro to pick up and the broad industrial to start buying things to be able to do that. But we will, as revenue volumes increase as we progress throughout the year, we would continue to expect to see gross margin increase.
Yeah. On the industrial side, it's a double kicker or whammy depending where you are in the cycle. Right now, it's the downside, meaning industrial's lowest percentage of mix, and it also drives a lot of our utilization internally. So as industrial comes back throughout this year, that helps from a mixed perspective, it also drives utilization. So you get the double whammy on the upside as you come out of this. Utilization is the good news: it's not going down anymore, and it's very low. You get a lot of incremental gross margin expansion as we start turning the factories higher. We're not planning on turning them any lower given what we did on inventory this year already and given we're thinking the inventory of our customers on industrial is now leaned out. So it's expansion from here on the gross margin side.
The question is the pace. That pace would be a lot dictated by the industrial market.
Got it. Okay, so this is just a question about sort of what you learned, and I compare and contrast you to other of your peers. When you look back over the past couple of years and how deep this cycle's been and how it evolved and how crazy it was during the peak, what have you learned and taken forward that will make the company better over the next five years? If you look at some of your peers, some of them had, you know, preferred agreements with, you know, some of their suppliers, and they had LTSAs, and that's come back to be, you know, not so great now. Others didn't have enough capacity in the peak, and so they're building a lot of new fabs.
You seem you're kinda somewhere in the middle. So how do you look at what happened the past few years, and how does that inform you on how the company ought to look over the next five years?
So, I'll give you my nine-month look back, and then I'll let Mike go back to prior years, what he's learned from what has happened before. So, one of the things we certainly learned going through this, and I think the team did a really nice job in a difficult situation, right, managing the inventory. You know, you think back to what was happening, and I sat on the other side as a buyer on this in the supply chain, and I just remember getting a phone call saying, "Your lead time's not 13 weeks anymore. It's 26." And it went from 26 to 52 weeks, and it went 52 weeks to longer.
If your business is dependent, you know, turning on a machine, you have to have the equipment, you make a lot of buying decisions that, in hindsight, don't look that great, right, just relative to what happened. So, you know, I think what our team did, which was they worked really hard. I mean, it's very hard to call a customer and say, "I know you wanna order this, but we don't really think you need it." But ultimately, they say, "You ship it. You gotta ship it." But what happened is we got much closer to customers, and now we are involved much earlier in all of the processes with our large customers, which gives a signal.
We have also, as I mentioned before, we have learned that keeping more of this inventory under our control and on our balance sheet, will be something we'll wanna do going forward 'cause it gives us tighter control.
Yeah. Oh, sorry. Go ahead.
The other thing is everyone's like, "Oh, there's a huge inventory build that customers. What can you do differently on the revenue side?" It's very tough. I mean, we spent a lot of time with our customers calling them, asking them about what do you need, what don't you need, and it was yes, yes, yes, no. And it's hard to control that side. The customer's the customer. But what we can do better is control what's in our control, OpEx, CapEx, utilization. And I think we can react faster to reading the tea leaves of our customers and what happens in revenue. You react faster on the OpEx line, deploying less CapEx and dropping utilization faster, such that you don't have as much balance sheet inventory build. Your OpEx doesn't go up as much, and you need bigger cuts later.
So what's in your control, we can manage better. And Rich's point also, our balance sheet inventory, keep more at die bank 'cause that is good for upside in demand. So really, what's in your control and focus more on that while working with the customer on the revenue side. Group of revenue takers at the end of the day. We do our best to manage that, but the customer's the customer.
You see the result of what Mike and the broader teams were doing, right? We took a lot of inventory off our balance sheet, which, you know, helps us from a free cash flow perspective, right? We got back up, you know, 30%-33% for the year free cash flow margin, and I expect that we'll get back into our long-term model for free cash flow margin for 2025. A lot of that is built around the resilience behaviors that came as a result of the supply chain fracture.
It seemed like you were a little more proactive in terms of, and I don't know whether it was that you were, you know, the customer said they wanted 10, and you would ship 7, and they would get mad at you for only shipping 7, even though you could've shipped 10. But so I don't know if there was a proactive effort on your part, but it seemed like you were more proactive in sort of reading the tea leaves, as you said. Is that a systems thing? Or is that just you're closer to the customer than maybe some of your peers are?
Yeah. It was, it's both. We're close, very close to customers. That definitely helped. We also did a very good job managing the channel. The channel is one removed from the customer. And we would talk to the customer, and we'd ship in less than the channel they wanted. So I think we did a good job managing the channel inventory. Yes, it got high, but we really managed that closely and didn't ship them everything they wanted. The direct customer is a little more challenging, but we did. We'd say, "You know, we've shipped you this much product. Are you sure you need it?" And some would say, "Oh, actually, you can take it down. Doesn't say we need it." So there's a balance there.
Closest to customers, looking through the channel and really managing your business and watching yourself versus what your customer's saying is what helped us get through it. And I'll give our operations team a lot of credit. Bringing our lead times back to 13 weeks very fast. We got 13 weeks end of last year, so a year ago. That was painful from the standpoint of a lot of cancellations, but it got us through inventory correction faster.
Yeah. I think doing a little bit of the history as I was coming on board, the company spotted the start of the cycle going the other way pretty early and pretty aggressively started managing down the channel, right? So we've been aggressively managing down the channel for over a year, and talking to our channel partners, not all companies took that approach.
For sure. Yeah. Can you just sort of talk about the industrial market in general? There's, I know, there's 15 different submarkets within industrial, and some are better than others. But can you talk about industrial? It seems like on the whole, it's not really getting any better. It's still quite mixed. Can you talk about that? Are there any green shoots in industrial?
Yeah. I would say there are. I agree on from a broad macro perspective, the broad piece is not picking up. But if you think about what's going on for us, I'd say there's a couple of things. One, we had been talking about how, you know, significant the drops in automation, industrial automation was for us. We actually had a growth this quarter in industrial automation. That is a good green shoot, right? We really wanna see that pick up. We continue to do well in aerospace and defense, you know, which has been one of our most resilient businesses, on the industrial side.
And then, as Mike mentioned it a little bit before, you know, in the test space, given our, you know, the growth in all of the AI-related stuff, whether it's high bandwidth memory, high-performance compute, those are more complex. Testers have more of our content. And so we're actually on track for had a record year in 2024, in that test space, and we expect that momentum to carry. So those are the three areas I'd highlight. Look, the broad industrial's still soft. Now, that said, we have still had two straight quarters of growth in industrial coming off our trough, and we are at a very low level of inventory in the channel. So I'm optimistic. And as we've, we've sort of talked about the math before.
You know, if you go back to 2019 to today, we've been under ship in the channel, excuse me, under shipping demand by something like 20%. So I think there's I that gives me optimism, but we need the macros to improve.
Got it. Well, we're out of time again. Thank you to you both.
Thank you for having us.
Appreciate it. Thanks, everybody.